Want a  tax hike that will really hit home … literally?  The Hill reported yesterday afternoon that momentum has picked up for capping the mortgage-interest deduction that has incentivized real-estate purchases.  It comes as the National Commission on Fiscal Responsibility and Reform looks at means-testing a number of programs, including Social Security and Medicare:

The popular tax break for mortgage interest, once considered untouchable, is falling under the scrutiny of policymakers and economic experts seeking ways to close huge deficits.

Although Congress last year rejected the White House’s proposed cut to the amount wealthier taxpayers can deduct for home mortgage interest payments, the administration included it again in its 2010 budget — saying it could save $208 billion over the next decade.

And now that sentiment has turned against all the federal red ink — and cost-cutting is in vogue — Democrats on President Barack Obama’s financial commission are considering the wisdom of permanent tax breaks such as the mortgage deduction and corporate deferral. Calling them “tax entitlements,” senior Democratic lawmakers have argued they should be on the table for reform just like traditional entitlement programs Medicare, Social Security and Medicaid. …

Policymakers seeking savings have tried to cap the mortgage interest deduction before — and failed. Five years ago, a bipartisan tax reform commission created by President George W. Bush proposed ending the mortgage tax break. But the commission’s plan stalled in Congress, partly because of popular support for the mortgage deduction.

Obama’s proposal, which would cut the deduction rate for itemized expenses for those making more than $250,000 to the rate paid by the middle class, was panned last year by members of both parties. They worried about its effect, during a recession, on charitable deductions and the housing market.

Flat-tax advocates had to deal with serious opposition to the notion of eliminating the mortgage-interest deduction entirely by arguing that a flat rate was easier to administer and didn’t put one American in the position of paying another’s mortgage interest.  For fair-tax advocates, the entire issue is moot when one ends the income tax altogether and instead taxes consumption.  This proposal doesn’t go as far as the two broad conservative tax-reform proposals, which is probably one of the reasons a means-test is back under serious consideration for this staple tax incentive.

However, that doesn’t mean it will be simple to pass.  First, assigning a “rich” label to the $250K earning level is ridiculous.  That would include a lot of small-business owners who report business income in personal returns.  The sudden elimination of the tax incentive will upend their financial calculations and make future home purchases a questionable and riskier venture.  It might incentivize the “rich” to rent or lease property instead of purchasing it, which won’t help this residential real estate market.

Still, conservatives should consider whether the government should prop up the housing market at all with this incentive, which is in effect a redistribution of wealth to the landed.  Its intent is social engineering, a task that the Right abhors in other contexts — like, say, the CRA and Fannie/Freddie virtual subsidies to the subprime market, a task which has shifted of late to FHA.  Is it time to means-test the mortgage deduction or eliminate it altogether?  Take the poll: